On July 29, 2013, the US Bankruptcy Court for the Western District of New York, in Cyganowski v. Lapides (In re Batavia Nursing Home, LLC), held that the safe harbor provisions of section 546(e) of the Bankruptcy Code are not limited to publicly traded securities, but also apply to transactions involving privately held securities, such as leveraged buyouts (LBOs), regardless of size and impact on the financial markets.

This case involved a $1.179 million LBO of privately held securities. The trustee sought to avoid the transaction as a fraudulent transfer, which the defendant argued was protected by the safe harbor provisions of section 546(e) of the Bankruptcy Code.

Section 546(e), among other things, protects settlement payments made by or to (or for the benefit of) certain parties in connection with a "securities contract," but does not protect transactions made with intent to defraud. The purpose of this defense is to prevent disruptions to the capital markets that might occur if long-term trades could be unraveled years later by fraudulent transfer and other avoidance actions.

The Court began by stating that the defendant in the present case was "situated precisely" as the defendants in AP Services LLP v. Silva. In AP the court held that the plain language of section 546(e), combined with the consensus among the circuit courts that "settlement payment" should be construed extremely broadly, resulted in finding that the $106 million LBO of privately held securities fit within the section 546(e) safe harbor. The court in AP relied primarily on:

The AP court rejected the argument that section 546(e) requires a judicial finding that undoing a transaction would have an adverse effect on the financial markets. While acknowledging that the $1.179 million at issue would result in a much smaller impact on the financial markets than the $106 million involved in AP, the Court agreed with the AP court that requiring an inquiry into a transaction's effect on the financial markets would cast many, if not all, completed LBOs into uncertainty, which, in turn, would cause the disruption to the financial markets that the safe harbor was intended to prevent.

As a result, the Court refused to avoid the LBO transaction, holding that it fell under the safe harbor provisions of section 546(e).

This decision is in contrast to a recent decision by the US Bankruptcy Court for the Southern District of New York in Geltzer v. Mooney (In re MacMenamin's Grill Ltd.). In that case, the court declined to apply the section 546(e) safe harbor to a small LBO involving a privately held company because the transaction did not have a broader impact on the financial markets. These contrasting decisions illustrate the confusion and disagreement among courts about whether section 546(e) protects LBOs involving privately-held companies from avoidance. Until the issue is resolved by Congress or the US Supreme Court, it is not safe to assume that LBOs of privately held securities are covered by the section 546(e) safe harbor.

Batavia Nursing is the most recent decision in a long line of cases addressing the scope of the section 546 safe harbors. Courts have generally interpreted these safe harbors broadly to bar avoidance actions in a variety of cases involving securities and the securities markets. For examples, see the following Legal Updates:

However, not all courts have broadly interpreted the section 546 safe harbors. For examples, see the following Legal Updates:

As a result, it is important for practitioners to know how courts have applied the section 546 safe harbors in their specific jurisdiction.